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Once Market Gets Overbought, Then What?

I had a question asked of me today that I think others might be curious about, so I
want to share this with you. The question is what exactly I think will happen with
the market once we do reach that intermediate-term overbought reading Dec. 16.

There are many options for what might transpire, so let me run through some
statistics for you. First of all, the number of stocks making new highs today was
massive. Over 550 new highs appeared on Nasdaq and almost 500 were on the NYSE. That
is simply not bearish. Breadth continues higher and that too is not bearish.

The utilities are not (for now) going lower, so that is not bearish. The transports
are making new highs; again this is not bearish.

So what we're left with -- or could be left with -- are extremes. As you know, we are
very near some extremes in sentiment. Today's put/call ratio of 75% is the lowest
since we saw 76% in mid-August, and prior to that mid-July. Both of those periods
were not good times to load up on stocks. CNN's Fear and Greed Index is now at 85. It
has, in the past, gotten over 90, but that too is getting stretched.

The 10-day moving average of the put/call ratio is getting extreme as well. The
Investors Intelligence readings should jump up over 60% next week. That is not
necessarily coincident with a market high, but often arrives near one. The VIX/VXV
ratio has also gotten extreme.

Then there is the ratio of the S&P to the Russell 2000. When we looked at this ratio
two weeks ago, I noted it was at 1.64 and it should "rally" off that level, but then
it was a coin toss. It did move up but has broken down. Please note that if/once this
gets into the mid-1.50s, the market is usually near a high.

I don't know if we'll see it get that extreme in another week, but if it got there I
would consider it a problem. However, as you can see, the last time it did this it
lasted for a few months before it mattered.

As you probably know, I am basing the overbought timing on the 30-day moving average
of the advance/decline line. Beginning the day after December expiration, this
indicator drops a long string of black (or positive readings) as 13 of the ensuing 15
days to be dropped will be positive ones.

Add to that the fact this week's rally would be dropped on the 10-day moving average
of the a/d line. That would mean we have both the short- and intermediate-term
overbought at the same time. Here's what the four days following December expiration
would look like (to be dropped):

So much depends on what transpires in the market next week, but if it sets up with
all these extremes, then I think we could have a pullback that is worth raising cash
for. If we don't get that extreme, then it might just mean we go into a giant
chopfest through year end. Unlike previous times in recent years where the sentiment
was giddy, we don't have indicators rolling over and making lower highs. If we had
that, then it would be quite bearish. Right now it's just a market that is long in
the tooth and feels like it's heading to an extreme.

New Ideas

I listened to a discussion on the bank stocks this morning on TV and a discussion on
drug stocks. The high cost of drugs and health care has become a hot potato in the
U.S. During the Obama administration, everyone hated the banks after the 2008 crisis.
So the banks would rally but they would never make much progress. In the end, they
would rally and then falter. It wasn't so much that they were bearish, they just
didn't go anywhere. Can it be that the health care sector now becomes similar? We can
get rallies but know that they are all just trading rallies and not long-term buys.
It's a thought.

And since I was (again!) asked about iShares Nasdaq Biotechnology ETF (IBB:Nasdaq), I
would note it did close the gap and closed on the high of the day. I think that
downtrend line remains a tough level, so $275 would be an initial target if it can
get over $270. A failure to get over $270 and I'd be concerned.

Today's Indicator

The 10-day moving average of the put/call ratio is discussed above.

Q&A

Helene welcomes your questions about Top Stocks and her charting strategy and
techniques. Please send an email directly to Helene with your questions. However,
please remember that TheStreet.com Top Stocks is not intended to provide personalized
investment advice. Email Helene here.

I was asked to follow up on Starbucks (SBUX:Nasdaq), which we looked at a few weeks
ago when it was kissing $58. At that point, I thought it needed a pullback. It has
pulled back and rallied again. It really should fill the gap toward $60 (not shown on
the chart), but today's action is not encouraging. As long as it holds over $58, I'll
give it the benefit of the doubt to fill the gap, but if it falls back under there,
this will look like a false breakout. And with the sentiment as high as it is, it
would be concerning.

As you might recall, I thought the iShares 20+ Year Treasury Bond ETF (TLT) was
bottoming in the $122 area and it stopped me out (maybe more like regurgitated me up)
on the break of $119 last week. It has not made a lower low yet and if it can get
over $121 it still has trouble at $122. But if it holds over $118 then this is the
first higher low since the rout began. What I continue to find of interest is that
the Consumer Staples Select Sector Fund (XLP), Utilities Select Sector Fund (XLU) and
iShares U.S. Real Estate ETF (IYR) have not made lower lows and continue to act
better.

PowerShares QQQ (QQQ:Nasdaq) is trapped between $114 and $119. If it cannot get up
and over $119 by next week's intermediate-term overbought reading, then I would look
for it to work its way back down to at least
$115-$116, but we have to see what it does next week.